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-- Developments in the International Financial Markets
-- Developments in Domestic Financial Markets
-- Points to Be Noted in the Financial Markets for the Foreseeable Future
-- Measures to Enhance the Market Infrastructure in 2010
February 28, 2011
Bank of Japan
From spring 2010, in response to the Greek shock, global investors who had been sensitive to risks gradually turned their attention to the downward trend of the U.S. economy and grew more pessimistic about the economic situation. Under this trend, stock prices remained weak, and the declining trend in long-term interest rates became evident. From the second half of 2010, given the heightened expectation of enhancement of monetary easing in the United States, long-term interest rates declined further. On the other hand, the prices of risky assets such as stocks headed for recovery. Toward the end of 2010, partly because pessimistic views about the U.S. economy subsided reflecting stronger-than-expected economic indicators, long-term interest rates -- which had declined to unprecedented levels -- rebounded and rose significantly. As these developments indicate, changes in views about the economy and monetary policy in the United States were the major factors behind fluctuations in the international financial markets.
Amid the resurgence of the fiscal problem in Europe, concerns over the problem increased again in the international financial markets. In view of the continued rise in emerging stock prices and commodity prices against the background of active capital inflows, some market participants grew wary of the overheating.
Large fluctuations in long-term interest rates in the United States affected developments in Japan's financial markets, as they spilled over to Japanese long-term interest rates and indirectly contributed to the developments in Japanese stock prices by influencing foreign exchange (FX) markets.
Looking at the developments in each market, toward early October 2010 Japanese government bond (JGB) yields declined rapidly reflecting heightened expectations for additional monetary easing at home and abroad, but they rose toward the end of 2010 due to such factors as investors' position adjustments triggered by rises in U.S. long-term interest rates. Stock prices remained somewhat weaker than in the United States and Europe, as their rise was contained by the yen's appreciation against the U.S. dollar reflecting heightened expectations for monetary easing in the United States. Nevertheless, stock prices trended upward as foreign investors took another look at the Japanese market from November 2010, when the dollar appreciated somewhat. Meanwhile, the Bank of Japan decided to implement a comprehensive monetary easing policy at a Monetary Policy Meeting held in October 2010. Under these circumstances, financial conditions as a whole showed signs of easing, as evident in firmer conditions in credit markets and the Japan real estate investment trust market. Money market interest rates came under downward pressure toward early October 2010, reflecting heightened expectations for monetary easing in Japan. They then fluctuated somewhat but remained more or less unchanged at low levels as the Bank continued to provide ample funds.
Since the end of 2010, financial markets at home and abroad have regained stability compared to some time ago. Among market participants, however, both relief resulting from the subsiding pessimistic views about an economic slowdown in major developed economies and concerns over risk factors for the outlook remain. Financial markets are likely to remain somewhat nervous for the time being, as market participants are sensitive to indicators of the real economy and macroeconomic policies in countries around the world.
One of the factors that may have significant effects on the international financial markets in the future is accumulation of potential risks of a reversal resulting from an increase in capital inflows to emerging economies and commodity markets. Given the increased comovement of the international financial markets and the financialization of commodities, the risk of a reversal of capital flows requires attention. The second risk factor is developments in sovereign risk. Market participants are still concerned about events such as large-scale redemptions of government securities that will take place in peripheral European countries from spring 2011. The fiscal problem in Europe may influence market participants' views on fiscal conditions in developed economies, depending on how the problem evolves. Finally, the outlook for the U.S. economy, which faces the balance-sheet problem, may swing widely between optimistic and pessimistic views, and fluctuations in financial markets caused by such swings may be considered one of the potential risk factors.
Such risk factors for the international financial markets are important in examining future developments in Japanese financial markets, where the comovement with overseas financial markets is increasing.
With a view to supporting improvement in the functioning and efficiency of financial markets in Japan, the Bank is committed to enhancing the market infrastructure in cooperation with market participants. Regarding the JGB markets and repo markets, revisions in the fails practice took effect on November 1, 2010. And in December 2010, market participants reached an agreement on shortening the JGB settlement cycle by one business day starting from the first half of 2012. Additionally, measures to enhance financial market functioning have been examined in corporate bond markets, securitization markets, and over-the-counter derivatives markets. Furthermore, in regard to the business continuity plan in financial markets that had been formulated to ensure financial market stability in the event of a disaster, the joint exercises among money markets, FX markets, and securities markets were conducted in February and November 2010, and great progress was made toward the strengthening of cooperation across markets.
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Financial Markets Department, Bank of Japan